Basis is the name of the game

Paying federal estate tax is no longer an issue for most Americans. Now, the tax of greatest concern is income tax. A change of focus to income tax planning may require a revision of estate and business plans with an eye toward basis planning.

Basis is generally the initial investment amount or the purchase price of an asset. The higher the basis, the less gain at the sale. For example, if you buy 1 share of Walmart for $1 and sell it for $10, you will have a gain of $9 ($10$1=$9). However, if you inherit the same share when it is worth $10 and you sell it for $10, then you have no gain ($10-$10=0).

Basis issues were ignored when the estate tax credit, which protects estates from the federal estate tax, was small. Estate tax was 40 percent or more. To avoid estate taxes, estate planners sought to keep estates under the estate tax credit amount.

One way to reduce estate size was by dividing ownership of estate assets. Divided ownership allowed tax advisers to use discounts. Whether the discount was for lack of control or lack of marketability (or something else), the discounts could be 30 percent or more.

Although inheriting assets with reduced values saves estate taxes, it causes problems when selling those assets. The basis adjustment due to the death is smaller. A smaller basis means more of a gain when those assets are sold. Although the gain is taxed at a lower income tax rate (capital gains tax rate), avoiding tax is better.

Since less than 0.06 percent of Americans will pay federal estate taxes, we need to focus on basis planning. Discounts lower basis; so, discounts should be reconsidered.